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‘Greening’ the Renewable Resources & Alternative Energy Sector

Published January 11, 2016by Henrik Cotran

SASB recently issued accounting standards for the Renewable Resources & Alternative Energy sector, which comprises companies producing solar and wind power systems, fuel cells and batteries, biofuels, timber, and pulp and paper products. The sector is leading the transition to a more sustainable economy by creating technologies and capacity to produce renewable energy and materials.

In most industries, sustainability discussions tend to emphasize environmental externalities and social risks. Not so in the Renewable Resources & Alternative Energy sector, where companies are often deemed inherently “green.” But while the sector does contribute profoundly to enhancing the sustainability of businesses and society, SASB’s research suggests that a more comprehensive assessment of its sustainability risks is warranted. A range of emerging topics, from energy management to product lifecycle impacts, are challenging the sector’s sustainable reputation—not to mention affecting companies’ financial performance. Because each industry in the sector benefits significantly from government policies incentivizing the use of renewable energy and fuels, maintaining the support and confidence of the public and policymakers is critical. Sustainability challenges can also increase operating costs and create headwinds for revenue growth and market expansion. In the face of plunging fossil energy prices, alternative energy companies must not only show that they are sustainable but economically viable as well.

The following review of two SASB disclosure topics from the sector highlights the importance of considering sustainability issues when conducting financial analysis of Renewable Resources & Alternative Energy companies.

Feeding Uncertainty

The first example is the Product Formulation & Impacts on Food Markets topic in the Biofuels industry. The basic premise is that the use of biofuel feedstocks, such as corn, can increase competition for land and resources with food crop production. This could affect food prices and increase food price volatility, driving concerns over food security and ultimately affecting public perception and government biofuel policy. Evidence supports this contention:

According to experts at the United Nations Food and Agriculture Organization, biofuel production using food crops has played a “predominant role” in increasing crop prices and volatility since 2004.[1]

The adverse impacts on food prices and food security have already influenced government policy. In 2015, the E.U. agreed on a plan to limit the use of food-based biofuels for transportation to 7 percent of total volume.

Conversely, the use of other feedstocks, such as non-edible crop waste, may lower the industry’s impact on global food markets and enhance public support for the industry. SASB’s metrics for this disclosure topic include a quantitative breakdown of the feedstocks a company uses for biofuel production and the percentage of total feedstocks grown in food-insecure countries. This allows analysts to assess a company’s exposure to shifts in government fuel mandates as a result of concern over the use of food crop feedstocks, as well as exposure to price increases in food crop feedstocks as a result of public policy.

In a Different Light

The second example topic is Community & Ecological Impacts of Project Development in the Solar Energy industry. The Solar Energy industry currently benefits from an extensive license to operate and receives significant governmental assistance, generally with the understanding that solar technologies can mitigate much of the harm to human health and the environment caused by using traditional sources of energy. However, the industry also has the potential to create negative social and environmental externalities. Companies must minimize negative environmental and social impacts of project development, such as harm to endangered species. Such impacts could adversely affect public sentiment, putting at risk vital subsidies and policy support, and increasing difficulties with obtaining solar project permits and winning new consumers. Select evidence shows the potential for financial impact from this topic:

The Soda Mountain Project, initially proposed as a large plant near the Mojave National Preserve in southern California, has faced considerable pushback from environmental groups.xxvii Additionally, officials from the city of Los Angeles, concerned about the project’s effect on local wildlife, decided not to sign a power purchase agreement with the project’s developers.

In its FY2014 form 10-K, SunPower wrote that “The Company examines a number of factors to determine if the project will be profitable, including whether there are any environmental, ecological, permitting, or regulatory conditions that have changed for the project since the start of development.”[2]

SASB’s metrics for this disclosure topic include asset impairments associated with the community or ecological impacts of the project development and a description of efforts to address such impacts. These metrics can indicate how well a company has managed development risks in the past and the company’s ability to mitigate impacts in the future.

Several companies in the Biofuels and Solar Energy industries already disclose information about these topics in their SEC filings—an essential step to improving performance. By identifying, disclosing, and addressing sustainability challenges, companies in the Renewable Resources & Alternative Energy sector can continue to grow and maintain their position as the sustainable solution to the world’s energy challenges.

References

[1] Prof. Dr. Michael Schmitz, “Determinants for the Level and Volatility of Agricultural Commodity Prices on International Markets,” Institute for Agricultural Policy and Market Research, Justus Leibig University, September 2013[2] SunPower Corp, FY 2014 Form 10-K for the period ending December 28, 2014 (filed February 24, 2015), p. 86.